Reynoldsburg schools pay $1.4 million to escape exotic investment

Thursday

May 3, 2012 at 12:01 AMMay 3, 2012 at 12:43 PM

The Reynoldsburg school district paid $1.4 million to terminate an interest-rate swap with a financially troubled European bank this year, the same step the New Albany district has taken to shed the exotic investment.

Bill Bush, The Columbus Dispatch

The Reynoldsburg school district paid $1.4 million to terminate an interest-rate swap with a financially troubled European bank this year, the same step the New Albany district has taken to shed the exotic investment.

The same investment adviser who placed the New Albany schools in a swap that they paid $6.2 million to terminate last month advised Reynoldsburg on its deal. Both deals were signed in 2007 and appear to have worked identically:

Both districts stood to make money if interest rates rose but lose money if rates dropped. They dropped.

The Reynoldsburg district has two more swap agreements tied to other district bonds, and it might be on the hook for millions more in termination fees if it chooses to get out of them before 2013 and 2015, when Dexia Local Credit can execute options on them. The district received a total of about $1 million upfront to sign those agreements.

On the swap that was terminated, Dexia paid the district $517,000 upfront in 2007. In return, the district agreed to pay Dexia a fixed payment based on 1997 interest rates.

To get out of the deal this year, the district paid Dexia nearly triple the money it received upfront.Five years after he sold Reynoldsburg on the deal, the consultant, John Payne, advised the district to get out of it. Dexia is on life support from the French and Belgian governments, and the district could face legal costs if Dexia goes bankrupt, Payne said in a January memo.

“These agreements are financially valuable to Dexia because the district is paying ... interest rates equal to the rates on the original bond offerings, which are much higher than today’s very low rates,” Payne explained in a memo to district officials.

The fact that the Reynoldsburg district was stuck with high interest rates while rates fell to record lows “is immaterial to the district,” he wrote.

Anytime you borrow money, you’re making assumptions about interest rates, Payne said in an interview yesterday.

“The purpose of the hedge was to provide insurance in case rates went up,” said Payne, who was with the firm Robert W. Baird & Co. in 2007 when the district made the deal. He also advised the New Albany district while with that firm, but he now is an independent adviser for both districts. He said it was a good deal because the Reynoldsburg district received the upfront payment and kept paying interest rates it had agreed to in 1997.

Columbus City Auditor Hugh Dorrian said he has heard that logic before, and doesn’t buy it. “ Interest-rate swaps are a gamble with public funds,” Dorrian said, adding that Columbus prohibits them.

Being on the wrong side of a swap prohibits a public body from taking advantage of low interest rates unless it pays a penalty, Dorrian said. “If it protects me from rising rates, it’s protecting the other guy from lowering rates, and we all know what’s happened to interest rates in the last two or three years.”

John Adams, a vice president with Fifth Third Securities in Columbus, said if Reynoldsburg accomplished its savings target in 2007, that is a real savings. But the district also experienced opportunity costs from not being able to capture today’s even-lower rates.

“It’s not so much that Dexia won — which clearly it turned out that they did — it’s more, is there enough savings to make this work?” Adams said.

Like New Albany schools, the Reynoldsburg district issued new bonds this year, raising enough to pay off the original bonds and terminate the swap. Treasurer Tammira Miller said that although she wasn’t with the district at the time, the swaps were justified because they met the district’s savings criteria in 2007. This year, the district was able to negotiate about $320,000 off what it owed Dexia because the troubled firm is desperate for cash, Miller said.

The district doesn’t know how much it might cost to terminate the two other swaps in the future, or whether it will even want to, Miller said. The district paid more than $132,000 in consulting and underwriting fees to create the swaps, and another $91,300 in fees to reissue the bonds in February, she said.

Efforts to reach the Reynoldsburg Board of Education president and vice president for comment were unsuccessful.

bbush@dispatch.com

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